Strategy: Markets struggle with run-of-the-mill global growth

18 May 2016


  • Global indicators show mediocre growth
  • US and eurozone growth looks better than China’s and Japan’s
  • Weak earnings and disappointing data keep us cautious

After the rebound in March and April, equity markets have lost momentum amid weak earnings, pedestrian and uneven global growth and uncertainty over the outlook for monetary policy. In this challenging climate, we have not changed our cautious asset allocation.


Among the indicators of mediocre global growth, OECD Cyclical Leading Indicators (CLIs) rose in just 13 out of the 38 countries for which this gauge is available. Since 2014, it has stalled at below-average levels. This shows that the global economy is still struggling to recover from the global financial crisis in 2008/2009, probably held back by persistently high debt levels. CLIs kept losing momentum in the G7 countries, but stabilised in Asia.

PMI indices hardly paint a better picture, in our view. Manufacturing looks weak in many developed and emerging markets, although the GDP-weighted average manufacturing PMI has improved from its mid-2015 low. The services sector PMI for developed economies has risen lately, but that was after a steep decline in late 2015 and earlier this year. In emerging markets (EM), the services sector PMI has fluctuated at around 50, indicating neutral momentum

In our view, the weakness in the global economy is concentrated in industrial production and trade. In April, output rebounded in the US, but slowed further in China. Trade growth has been slow or even negative. Consumer demand is holding up relatively better in developed economies. Consumer trends fit with our desynchronised growth scenario, where we see developed economies holding up relatively better than emerging markets.


The US and the eurozone are outpacing China and Japan. US consumers have emerged from hibernation. Confidence jumped after four months of falls and retail sales rose at the quickest pace since July 2015 amid positive fundamentals such as income growth, robust house prices and growing household wealth. But while real disposable income rose by 2.9% QoQ annualised in the first quarter, consumption gained only 1.9%, boosting the savings rate.

For industrial production, the underlying trend looks less firm than for consumer spending. Manufacturing may still be struggling with lacklustre global demand, the delayed impact of the strong dollar – it is still 17% above the average of the past six years – and an inventory overhang. Nevertheless, it looks like the US economy has started on the second-quarter rebound which is widely expected.

GDP growth in the eurozone was slightly better than expected, supported by a strong gain in Germany, but also by acceleration in France, Italy and the Netherlands. This is welcome after last year’s slowdown. With tailwinds such as a weaker euro and falling oil prices reversing, we do not expect the economy to continue growing at its first-quarter pace. But improving domestic demand and less fiscal tightening should keep growth close to or above trend.

Rather than the flat reading that had been expected (and we had pointed to the possibility of negative growth), growth in Japan came in at 1.7% QoQ annualised, with consumption growing after a steep decline in the fourth quarter and trade providing support. We have not become more positive after this data. First, the improvement could be just volatility. Secondly, leading indicators such as the Tankan survey, the PMIs and the Economy Watchers’ Survey have all weakened lately. Thirdly, all price gauges for domestic components fell (further) into negative territory. Thus, in our view, growth looks weak and disinflationary forces are still at work.


Adjusted for inflation, retail sales grew at the slowest pace in more than a decade. Car sales growth has fallen significantly from the breakneck pace late last year. Industrial production growth fell back after the improvement in March. Fixed asset investment growth slowed due to a slowdown in manufacturing, which was not fully offset by higher growth in infrastructure and real estate. Growth in real estate and infrastructure investment remains modest.

We are concerned that growth could slow significantly when the credit flow slows, while monetary easing measures seem to have less of an impact on the economy. Also, bubbles keep popping up, now in housing. Supply in the megacities may be limited, but price gains of 30.2% YoY in Shanghai, 37.2% in Beijing and 56.1% in Shenzhen look simply unsustainable. We are holding on to our cautious view on Chinese growth.


Markets did not glow over the better-than-expected growth data from Japan. Maybe like us, they doubted the sustainability of Japanese growth. Better data could delay further monetary easing, although the latest news on inflation was quite negative. We expect more monetary easing, probably already in June, and we think there is a high possibility that a planned consumption tax hike will be delayed. Another dose of fiscal stimulus may be announced shortly, taking some of the weight off the Bank of Japan’s shoulders, at least for now.

In the US, most of the inflation pressure continues to come from medical care and shelter, but on the whole, inflation is subdued and should not drive the Federal Reserve to a policy rate hike, even if Fed officials have sounded hawkish lately. The market clearly signalled that a hike now would be a mistake. Given that signal and the uncertainty over the outcome of the UK referendum on EU membership, which will be held shortly after the next Fed policy meeting, the data will have to be stellar and the Fed has to remain hawkish for it to be able to hike rates in June.[1]


The latest US earnings reports have resulted in a 75% earnings surprise ratio, which is less strong than earlier in the reporting season and more in line with previous quarters. The sales surprise ratio improved from previous quarters, but it is still low. In Europe, the earnings ratio is so far more modest than in the US (as usual), but the sales ratio is dismal, in our view.

Actual earnings fell by 8.5% YoY in the US, while sales dropped by 2.2%. The weakness is most visible in energy and basic materials, but financials and information technology also had a poor quarter. Consumer-related sectors and healthcare did better. In Europe, energy, consumer services and financials disappointed.

No wonder markets are struggling. In local currency, the best major equity market this year, that of the US, is flat. Japanese equities have lost 13% and European equities have fallen by 10% year-to-date. Government bond yields are at the low end of their ranges. Risk spreads on corporate and emerging market bonds have held at relatively tight levels though.

We remain happy with our cautious allocation. We are particularly concerned about European earnings and the sustainability of dividend pay-outs and we see political risks. We think the mediocre data from emerging markets does not warrant tight risk spreads on EM bonds.

So far, we have not benefited from our underweight in commodities. Oil prices have clearly moved against us, but the effects of supply disruptions and oil field maintenance should ease. In the medium term, Iran, Saudi Arabia and Kuwait are likely to raise production. Metals have not joined the commodity rally, indicating that global demand is not driving up prices.

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[1] Fed officials said an interest-rate increase in June was possible if incoming data showed an improving economy and sought to push back against market expectations that a move at its next meeting was unlikely, minutes from the Fed’s April meeting show. While officials weren’t committed to moving in June, they clearly sought to keep their options open at that meeting and in the communications that they planned to release afterwards. Source: Wall Street Journal, 18 May 2016